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Markets hit by US rate rise: Fed's move rules out immediate cut in Britain and sends shares tumbling

THE US Federal Reserve sent financial markets tumbling yesterday when it moved to push a key short- term interest rate higher by a quarter-point for the third time in less than three months.

Analysts said the Fed's decision appeared to rule out an immediate cut in British base rates but an early reduction was still possible.

Although the Fed's laconic statement once more set no specific target, Wall Street assumed that Alan Greenspan, the Fed chairman, wants to nudge the Fed funds rate, at which banks lend money to each other, from 3.5 to 3.75 per cent.

The dollar rose on the news, closing 0.88 pfennigs up at DM1.7213.

Share prices on Wall Street fell sharply, with selling concentrated in areas most directly sensitive to higher rates. But the drop in the Dow Jones Industrial Average failed to trigger the trading curbs that have followed so much of the recent volatility in the share markets. The Dow index shed 41.05 points to close at 3,620.42.

The 30-year US Treasury bond, the bellwether of long-term inflation fears, was trading down about 11 2 points to yield 7.41 per cent - almost its highest level in two years - and shares of utilities and industrial conglomerates were hard hit.

A number of regional US banks raised their prime lending rate - the benchmark for most consumer lending - to 6.75 per cent from 6.25 per cent.

But the larger US 'money-centre' banks, which joined in a quarter-point increase in the Prime when the Fed acted last month, remained on the sidelines yesterday.

The news sent London shares down sharply and gilt prices slumped. The FT-SE 100 index ended 30.1 points lower at 3,138.2. Long-dated gilt prices tumbled at one stage by 21 2 points but edged back towards the close. The June long-dated gilt future ended 124 32 points lower.

The timing of the move could cause controversy. In an interview at the weekend, the Treasury Secretary, Lloyd Bentsen, predicted 4 per cent short-term rates by the end of the year, but the Fed was widely expected to do nothing in the immediate future that risked further unsettling stock and bond prices after their recent sharp falls.

The administration insists that the economy is not overheating. Economic figures point to 1994 growth in line with official forecasts of 3 to 3.5 per cent expansion.

For Fed-watchers this latest move on rates comes at an intriguing moment. Although the White House studiously avoided criticising the Fed when it pushed up rates earlier, and Mr Clinton's relations with Mr Greenspan seem smooth, the President now has a chance to make the central bank more amenable to his wishes.

Within the next few days he is due to finalise his choices to fill the two vacant seats on the Fed's seven- member board.

One is expected to be Alan Blinder, a member of Mr Clinton's Council of Economic Advisers, and the other is likely to be a woman or minority candidate. Both can be relied upon to be more growth-conscious and less obsessed by inflation than their Republican-nominated predecessors.

Mr Clinton later told reporters in Milwaukee that long-term rates should stay down if markets reacted 'rationally' to the Fed's action.

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